What is a CFD?

A contract for difference or CFD, as it is commonly known, is a financial derivative that allows traders to speculate on the upward or downward movement in the value of a financial instrument – shares, indices, commodities or currencies.

According to ASIC, ‘CFDs are derivatives because their value is derived from the value of another asset, for example, a share, commodity or market index’.

Due to their complexity, CFDs aren’t suitable for everyone, so it’s worth considering your individual needs and circumstances and making sure you understand the risks involved before deciding to invest in them.

This video from the ASIC MoneySmart website provides insight to the types of risks that can be encountered when investing with CFDs.

How does a CFD work?

A CFD does not involve acquiring or owning the underlying asset that is the subject of the CFD. The CFD only refers to any change in value of the asset. The two parties who have entered into the contract stand to gain or lose depending on whether the value of the underlying asset increases or decreases. The gain or loss is the difference between the opening price and the closing price of the contract, multiplied by the number of underlying shares or other assets mentioned in the contract.

Where can I trade CFDs?

The table below is a list of Australian providers offering CFD trading.
Canstar does not rate these providers for CFD trading capability.

Who is the contract with?

The two parties in a contract for difference are known as the buyer and the seller. CFDs are typically traded over the counter (OTC) and this means the contract is directly between the two parties without an exchange. However, clearing houses are often used to facilitate the transaction.

When does the contract end?

CFDs do not have an expiry date and can be closed by either party generally at any time. That said, as with many types of investing, there can be occassions when it is not possible to close out a position or sell down an asset.

Trading parcel size

You can typically purchase CFDs in multiples of 1000s, and each CFD has its own price. Typically, the cash outlay is 5% of the value of the CFD. Therefore, the calculation of your initial outlay in this case would be: CFD price x number purchased x 5%.

What is leverage?

For a small outlay of cash, a CFD allows a trader to access a far greater level of exposure to the gain or the loss.
Leverage allows traders to deal in assets with a value that is typically far greater than the cash amount required to put the deal in place. In the case of CFDs, the cash required to put in place the contract is generally only 5% of the value of the contract. As ASIC explains, “the reason the initial cash outlay is only 5% is that “you are effectively borrowing the other 95%”. E.g. if you’re going long, a 10% drop in share price would equate to a 200% loss for you (excluding fees, interest and any other charges).”

CFD strategies

Two core strategies are used by CFD traders. These are known as:

‘Going Long’ – let’s say for example, you believe Stock A will increase in value, you therefore want to buy a CFD for that stock. The counterparty to the contract is the seller and they believe Stock A will decrease in value.

‘Going Short’ – essentially the opposite of going long. If you believe a stock will fall in value you would sell a CFD to a buyer who believes the stock will increase.

At the end of the contract, depending on the movement of the market valuation of the underlying asset, one party will owe the difference to the other.

Risks

There are a number of different risks to consider when trading CFDs, such as market risk, liquidity risk and counterparty risk. To learn more about common investment risks like these, check out this article.

CFDs are dependent on conditions in the market for the underlying asset, even though you are not actually trading the underlying asset. ASIC also says that you should only consider trading CFDs if:

you have extensive trading experience

you are used to trading in volatile market conditions, and

you can afford to lose all of, or more than (if you leverage your investment), the money you put in.

Important Information

Canstar does not rate or endorse Contracts for Difference (CFDs) and makes no recommendation about comparative features and benefits with respect to these products or trading of these products. For further information please visit the providers websites and consult a qualified professional adviser as appropriate.

Not all CFD providers in the market may be listed and the table above may not include all features relevant to you.

The list in the table above is factual and should not be construed as general advice or personal product advice. CFDs are considered to be a speculative, high risk , complex and potentially volatile investment. Consider whether these products may be right for you. Before you decide whether or not to acquire a particular financial product you should assess whether it is appropriate for you in the light of your own personal circumstances, having regard to your own objectives, financial situation and needs. Consider the product disclosure statements, or any other information statement provided in by a Provider in relation to a product and seek advice from a licenced financial adviser before making any investment decision.

Please note that any information about performance returns is historical. Past performance should not be relied upon as an indicator of future performance; unit prices and the value of your investment may fall as well as rise. See Canstar’s Financial Services and Credit Guide (FSCG) for our detailed disclosure.

CFDs are considered by ASIC to be complex financial products. Some are more complex and risky than others. According to ASIC’s MoneySmart website, “CFDs are not a simple product. Trading CFDs is complex for several reasons:

CFDs might seem similar to mainstream investments such as shares, but they are very different.

CFDs are not standardised and every CFD provider has their own terms and conditions.

It is very hard to assess the counterparty risks involved in trading with any CFD provider.

Leverage means small market movements can have a big impact on the success of your trades.

This advice is general and has not taken into account your objectives, financial situation or needs. Consider whether this advice is right for you. Consider the product disclosure statement before making a purchase decision. Canstar provides an information service. It is not a credit provider, and in giving you information about credit products Canstar is not making any suggestion or recommendation to you about a particular credit product. Statistics referenced on this page have been verified by Canstar Research. Research provided by Canstar Research AFSL and Australian Credit Licence No. 437917.